How to Stake or Anchor the Bottom of a Ladder
What Is Ladder Bottom/Top?
Ladder bottom/top are two types of candlestick patterns used to indicate a reversal in the price direction of an asset.
The ladder bottom is a five candle reversal pattern that indicates a rise is commencing following a decline and is created by a series of lower closes, followed by a sharp price increase. The ladder top, on the other hand, is a five candle bearish reversal pattern that is composed of a series of higher closes, followed by a sharp price drop.
Key Takeaways
- In theory, the ladder bottom indicates a price reversal to the upside following a downtrend, while the ladder top indicates a price reversal to the downside following an uptrend.
- In reality, they act as a reversal pattern a little more than 50% of the time.
- Ladder bottom/top patterns are quite rare, so opportunities for trading them are limited.
Understanding Ladder Bottom/Top
The ladder bottom and top are theoretically reversal patterns, although they don't always act like that. According to the Encyclopedia of Candlestick Charts, by Thomas Bulkowski, the patterns only act as reversal patterns about 56% of the time. Therefore, traders may wish to trade breakouts from the pattern—price moves above or below the pattern high or low, respectively—in either direction.
The bottoming pattern tended to show the best performance when the price was in an overall downtrend, and breakouts higher or lower tended to work out about equally.
The Ladder Bottom
The ladder bottom is a bullish reversal pattern with the following characteristics:
- The market is in a downtrend.
- The first, second, and third candles have long black (down) real bodies with each open and close below the open and close of the previous candle.
- The fourth candle is black with a short real body and long upper shadow.
- The fifth candle is white (up) with an open above the real body of the prior candle.
The theory behind the pattern is that a downtrend loses momentum with an inverted hammer candle that creates an opening for bulls to take over and reverse the trend. In addition to not being common, the ladder bottom tends to be mediocre at predicting a reversal. However, it does tend to produce price moves of 6% or more in the breakout direction within the 10 days following the pattern (for stocks).
Traders should use the ladder bottom in conjunction with other technical indicators to predict bullish reversals. If the pattern does occur, traders may want to exit any short positions or adjust their stop-loss levels, but betting on a long position may require additional confirmation through other chart patterns or technical indicators.
The Ladder Top
The ladder top is a bearish reversal pattern with the following characteristics:
- The market is in an uptrend.
- The first, second, and third candles have long white (up) real bodies with each open and close above the open and close of the previous candle.
- The fourth candle is white with a short real body and long lower shadow.
- The fifth candle is black (down) with an open below the real body of the prior candle.
The theory behind the pattern is that an uptrend loses momentum with a hammer or harami candle that creates an opening for bears to take over and reverse the trend. As with the bottoming pattern, a breakout from the ladder top pattern tends to produce a decent-sized move in the days following the pattern, but the breakout could occur in either direction. It won't always be a reversal pattern.
Ladder Bottom/Top Example
Apple's daily chart shows a large ladder bottom pattern. There are three long red (down) candles, followed by an inverted hammer and a large green (up) candle. From high to low, this particular pattern covered more than a 12% price area.
Image by Sabrina Jiang © Investopedia 2021
Following the first (green) candle, the price moved up initially but didn't move above the high of the pattern (candle one). It then briefly moved below the low of the pattern, indicating a further slide. The price quickly recovered though and moved above the high of the pattern, continuing to the upside.
Entry points and stop losses could be placed at various locations within the pattern. A long could be taken following the green candle in a bottoming pattern, with a stop loss below the pattern low or below the green candle, for example.
Ladder Bottom/Top vs. Three White Soldiers
The three white soldiers pattern is created by three large white (up) candles in a row, where each opens within the real body of the last candle, but then closes higher. It shows strong bullish sentiment and traders typically look for it following a decline.
It is possible that a ladder bottom could transition into a three white soldiers if two more long up candles follow the white candle (fifth candle) in the ladder bottom.
Ladder Bottom/Top Limitations
- These patterns are quite rare, which means the opportunities to use them for trading or analytical purposes will be limited.
- The patterns are a poor predictor of price direction. The price could break higher or lower after they appear, with a breakout being a price move above the high or low price of the pattern. Despite being designed to spot reversals, it is about 50/50 as to whether the patterns will reverse or continue the prevailing trend.
- The pattern can be quite large and cover a lot of price area. By the time the price moves outside the range of the pattern, a significant portion of the ensuing price move may have already occurred.
The ladder bottom and top, like other candlestick patterns, are typically best used in conjunction with other forms of technical analysis, such as price action, larger chart patterns, or technical indicators.
How to Stake or Anchor the Bottom of a Ladder
Source: https://www.investopedia.com/terms/l/ladder-bottom.asp